When Acquiring, Have a Fall-Back

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At Hewlett-Packard and Compaq Computer, where the managements are in lockstep support of their proposed $25 billion combination, CFOs Robert Wayman and Jeff Clarke have plans for how their respective companies would go it alone if the deal unravels. What those plans are, they're not saying, of course.

But it's the job of every finance chief to design fallback positions--especially if the merger encounters barriers, as this one has with heavy shareholder opposition.

How detailed the contingency plan should be "is probably a function of how important a merger is strategically," says Robert Holthausen, professor of accounting and finance at the University of Pennsylvania's Wharton School. "If I'm filling in a product-line hole with an acquisition, it's certainly not as important" as, say, an HP-Compaq. If that deal collapses, the two companies still have the same strategic dilemma, navigating through fast-changing PC and server markets.

A deal's collapse, of course, is only one contingency--though the most extreme--that must be considered. Along the M&A path, for example, companies must gauge their tolerance for the cost of a deal rising or its benefits dwindling. "Incrementalism is often the plague here," says Textron Inc. CFO Ted French, explaining that those involved in the deal downplay negative impacts. "It should be the CFO's role to step in and stop that incrementalism."

A Delicate Proposition

One approach is to draw boundaries for a deal, showing what transaction terms are acceptable. When he was CFO of Case Corp., French helped put together the 1999 merger of the agricultural- and construction-equipment company with New Holland NV, a deal that schooled him well in the art of alternatives.

Facing "huge antitrust issues," he says, the companies knew "there was no question that we were going to have to sell something" to win government approval. But some divestitures were financially tolerable and some were not. In the end, seven businesses had to be sold off by the combined entity. The ramifications of every disposal, though, had already been analyzed--and found acceptable--by Case and New Holland. "It's really the old process of examining everything that could go wrong, because it may," says French.

Devising all the potential "what-ifs," however, is a delicate proposition. For one thing, involving the person closest to the deal may be a bad idea. "You want the M&A guy driving to the goal line," says French. "You don't want him thinking that failure is an option." And your CEO? "It's hard to tell him the deal might not go through," he adds. "But you really have to."

Discretion Advised

Everyone involved also must be discrete about what the contingencies are--and ready to execute when the time comes. When United Airlines and US Airways began pursuing a merger in 2000, it was publicly presented as a make-or-break strategy for the smaller US Air. Chairman Stephen Wolf testified in Senate hearings that his airline lacked "the financial wherewithal to become a large network carrier," and couldn't compete with low-cost start-ups, either. In 2001, though, it began evaluating chances of the deal being grounded, and planning for that possibility.

After the Justice Department finally ruled the deal anticompetitive last July, US Airways immediately announced it would move "forward with a plan to address the competitive environment" on its own. By mid-August, it had a three-phase strategic program in place, with cost cuts and significant adjustments in both its route map and aircraft-fleet mix.

While HP and Compaq remain largely mum about fallback strategies, Clarke discussed Compaq's 2002 plan on a stand-alone basis at a January analyst meeting. "There's a delicate balance there," says Compaq spokesman Arch Currid. "You need to convince everyone that you can operate whether the merger goes through or not."